Banking Conditions in Ninth District States Third Quarter 2011 Update

Minnesota Banking Conditions Continue to Improve, but Progress Varies and Several Key Measures Remain a Distance from Precrisis Levels

Minnesota banks showed another quarter of improvement in key measures of health, based on Sept. 30, 2011, data reported by the 372 banks in the state. However, key metrics of profitability and loan growth remain weak. According to Ron Feldman, senior vice president for Supervision, Regulation and Credit at the Federal Reserve Bank of Minneapolis, “Compared with pre-2008, Minnesota banks are still facing high loan delinquencies, low profits and weak loan growth. Improvements in profits and loan growth—which remains significantly more negative than national loan growth—were small this quarter. At the same time, measures of asset quality were generally on a positive trend.”

Overall asset quality showed strong improvement in the third quarter. The improvement in the quality of commercial real estate loans was also strong. But the overall ratio of past due loans compared with bank resources available to cover losses was somewhat worse in Minnesota than in the country overall. The same is true for commercial real estate loans, which have a ratio of weak loans to bank loss-absorbing resources of about 6 compared to a ratio of about 5 for the nation.

Profits did not improve as much as loan quality. Measures of profitability—the return on average assets and the net interest margin—increased only slightly and are still weak compared with the levels of earnings banks enjoyed prior to 2008. The return on average assets for both the median Minnesota and national bank was about 0.8 percent.

The year-over-year change in the amount of outstanding loans continued to be negative. It improved only slightly compared with last quarter.

Capital and liquidity ratios improved for banks in Minnesota and across the country. By historical standards, banks have little reliance on noncore funds and relatively high capital, on average.

Third quarter data show that Montana bank health is improving, based on Sept. 30, 2011, regulatory financial reports filed by the 70 commercial banks in the state. While profits are higher in Montana than in the nation, asset quality and loan growth remain considerably worse than the national averages and far from precrisis levels. According to Ron Feldman, senior vice president for Supervision, Regulation and Credit at the Federal Reserve Bank of Minneapolis, “Banking conditions in Montana banks improved. Asset quality and earnings improved, and while loan portfolios shrank year over year, the rate of decrease improved. However, because Montana banks have worse asset quality on average than the nation and lower loan growth, gaps between Montana and the nation remain.”

Asset quality improved compared with the previous quarter by about three-quarters of a percentage point. But overall asset quality and problems with commercial real estate loans remain worse in Montana than in the country as a whole. Weaker commercial real estate loans as a percent of the bank resources to absorb loan losses was about 8 percent for Montana relative to 5 percent for the nation.

The year-over-year growth in the amount of outstanding loans improved a bit, but remains at −3.75 percent for the median Montana bank compared with about −2 percent for the nation.

Measures of earnings were stronger this quarter. The median net interest margin and return on average assets were slightly higher than a quarter ago and, unlike the other measures discussed, compare favorably with national ratios. The return on average assets is 0.82 percent for Montana banks compared with 0.78 percent for the nation.

The capital and liquidity position of Montana banks continued to improve. Total risk-based capital increased by just over one-quarter of a percentage point to 16.5 percent. Banks in Montana also reduced their dependence on noncore funding.

North Dakota banks are outperforming national averages and getting stronger based on Sept. 30, 2011, reports filed by the 90 commercial banks in the state. According to Ron Feldman, senior vice president for Supervision, Regulation and Credit at the Federal Reserve Bank of Minneapolis, “North Dakota banking conditions improved once again across a variety of metrics, including critical areas like asset quality and loan growth, where banks in other regions struggled in recent years. Continued improvement at this rate will put North Dakota banks at precrisis levels in the near to medium term.”

Asset quality—with the exception of commercial real estate—improved overall at the median and average North Dakota bank to precrisis levels. The performance of commercial real estate lending and loans to finance construction and land development deteriorated in recent years, but has improved over the past several quarters and remains stronger in North Dakota than in the United States as a whole. The overall ratio of bad loans compared with loss-absorbing resources is just above 8.25 percent in North Dakota and over 14.25 percent nationwide. Importantly for banks in North Dakota, loans for agriculture-related purposes were strong.

Measures of earnings also increased slightly for North Dakota banks and continue to outpace national returns. The return on average assets for the median North Dakota bank was a little over 1 percent compared with a national measure of 0.75 percent.

While the year-over-year change in the amount of outstanding loans was negative nationwide, the North Dakota median bank grew its loan portfolio by more than 3 percent.

The liquidity position of North Dakota banks continued to improve. Banks in North Dakota reduced their dependence on noncore funding. Measures of capital (one area where North Dakota banks come up short in national comparisons) also improved this quarter.

South Dakota Banks Moving Closer to or Matching Precrisis Conditions; Continue to Outperform National Banks

South Dakota banks continue to outperform national averages, based on Sept. 30, 2011, reports filed by the 76 commercial banks in the state. According to Ron Feldman, senior vice president for Supervision, Regulation and Credit at the Federal Reserve Bank of Minneapolis, “South Dakota banks improved again in the third quarter of 2011. South Dakota bank health compares favorably with the nation across a variety of metrics, especially for earnings and asset quality. In those measures, South Dakota banks are moving closer to or matching their precrisis levels.”

Measures of overall asset quality, like the ratio of problem loans to the resources banks have to cover losses, improved as much in South Dakota as in the rest of the country, even though such problem loans were just half as much in the state as in the nation to begin with. The performance of agriculture-related loans is strong.

South Dakota’s median return on average assets is less than—but closing in on—historical standards at 1.18 percent, but it is 40 basis points higher than the 0.78 percent national rate.

The year-over-year change in the amount of outstanding loans for South Dakota banks dipped negative at the beginning of 2011, but improved to just over one-quarter of 1 percent as of the third quarter. The same figure for the nation was −1.7 percent.

Liquidity and capital position also improved for South Dakota banks. Total risk-based capital increased by about a quarter of a percentage point to just under 17 percent, and the median reliance on noncore funding decreased.